Guidelines for multinational enterprises

Encouraging linkages between small and medium-sized companies and multinational enterprises

An overview of good policy practice by the OECD Investment Committee

10 November 2005

OECD member governments actively seek to support the development of small and medium-sized enterprises (SME), including in the context of the OECDPolicy Framework for Investment. The following policy statement expresses the Committee’s views on good policy practices to enhance the linkages between multinational enterprises (MNE) and SMEs. Download the full Background Report in pdf file format for further information.

The importance of linkages between SMEs and MNEs

Linkages between MNEs and SMEs are important in the context of investment for development. The so-called “spillovers” of know-how and technology from foreign-invested enterprises to the rest of the business sector is one of the main benefits of FDI to development. In most countries, SMEs account for the larger part of the domestic business sector, so overcoming the obstacles to linkages between large and small enterprises is of great developmental importance.

Maximising the economic and social benefits of linkages is an important related challenge. The ultimate benefits of MNE/SME linkages to the host country depend on the enabling environment for investment as well as the strategies of foreign-invested companies. Both host and home country authorities can play an important role in encouraging mutually beneficial linkages: they can help overcome information asymmetries; they can support SMEs’ capacity to engage in linkages; and they can encourage MNEs to engage in partnerships with SMEs.

Information and matchmaking

Missing or incomplete information holds back many mutually beneficial partnerships between MNEs and SMEs. Authorities have a role to play in providing information and matchmaking services, including through national investment promotion agencies (IPA). They should consider taking steps to improve the flow of information about potential suppliers, purchasers and technology partners through national websites, business directories and business contact events.

Authorities may also consider more targeted approaches, such as working with MNEs to identify suitable local business partners and identify weaknesses that must be overcome for linkages to succeed. However, such approaches need to be carefully designed to maintain a level playing field among SMEs as well as foreign-invested enterprises.

Supporting SME capacities

To bolster SMEs’ ability to enter into linkages with MNEs the most effective strategy is to create a healthy domestic enabling environment for investment. The OECD Policy Framework for Investment provides a good starting point for what governments may wish to achieve. A business sector with technologically advanced and internationally competitive SMEs, operating in a competitive environment characterised by the rule of law, is capable of delivering both linkages and their economic benefits.

While they should not substitute for broad-based policies aimed at creating a healthy investment environment, more targeted measures may also be called for. A strong case can be made for undertaking an effort to “lift” enterprises to the technological and educational level demanded by their potential partners. Other approaches have been attempted, such as interventions to overcome documented weaknesses in the business environment. The examples include extra legal protection to the participants in linkages, and guaranteeing and speeding up commercial payments.

MNEs are willing to engage more deeply with SMEs in countries where they are treated with transparency and on the basis of the rule of law. An area of special concern is intellectual property protection. One the main benefits of linkages, technology transfers, is unlikely to materialise unless the MNE is assured of the continued control over its proprietary knowledge.

Encouraging MNEs to engage in linkages

Host governments have been relying on a mixture of “carrots and sticks” to induce foreign investors to form linkages with local firms and to enhance potential spillovers. Some inducements have taken the form of direct subsidisation of MNE affiliates, such as tax credits to foreign-invested firms that provide tangible benefits to domestic suppliers, or concessionary financing of selected activities.

Insofar as such measures are based on sound cost-benefit analysis and aim to address a lacuna between the societal and private returns to certain activities, they should be encouraged. However, they raise important challenges for the implementing authorities, including proper monitoring, assessment of the hoped-for benefits and the need to maintain a level playing field between competing enterprises. This is not least the case for specific industrial policy or other targeted measures, which by nature involve an element of discrimination.

Some countries have relied on performance requirements imposed on MNEs. The ones that are most pertinent in the context of linkages are local equity, technology transfer and local content requirements. However, the experiences with such measures, that effectively imply an additional taxation of foreign investors, have not been encouraging. For this and other reasons, several kinds of performance requirements are proscribed by WTO, and regional and bilateral investment agreements.

Many countries are increasingly relying on investment incentives with linkage-related conditionalities attached to them. No formal economic objection can be levied against subsidising business activities in proportion to their expected societal benefits and putting in place safeguards to ensure that the recipients fulfil their obligations. However, such practices are second best to removing the obstacles to MNE/SME linkages and leaving the actual forging of partnerships to commercial logic. They may moreover be fraught with problems of consistency and coordination, since much investment promotion and subsidisation is done at the sub-national levels of government.